ITEM 2. MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
OVERVIEW
General
Unico American
Corporation, referred to herein as the "Company” or
“Unico," is an insurance holding company. Currently, the
Company’s subsidiary Crusader Insurance Company
(“Crusader”) underwrites commercial property and
casualty insurance, the Company’s subsidiaries Unifax
Insurance Systems, Inc. (“Unifax”) and American
Insurance Brokers, Inc. (“AIB”) provide marketing and
various underwriting support services related to property,
casualty, health and life insurance, the Company’s subsidiary
American Acceptance Company (“AAC”) provides insurance
premium financing, and the Company’s subsidiary Insurance
Club, Inc., dba AAQHC (“AAQHC”), an Administrator
provides membership association services.
Total revenues for
the three months ended March 31, 2021, were $11,471,654 compared to
$8,005,181 for the three months ended March 31, 2020, an increase
of $3,466,473 (43%). The Company had net income of $2,267,703 for
the three months ended March 31, 2021, compared to net loss of
$1,043,826 for the three months ended March 31, 2020, an
increase in net income of $3,311,529. On February 12, 2021, the
Company, through Crusader, completed the sale of the
Company’s headquarters at 26050 Mureau Road, Calabasas,
California 91302, for approximately $12,695,000 (the
“Sale”). The Company recognized a gain of $3,693,858 on
the sale of the building. The increase in net income was primarily
due to the realized gain on this sale.
This overview
discusses some of the relevant factors that management considers in
evaluating the Company's performance, prospects, and risks. It is
not all-inclusive and is meant to be read in conjunction with the
entirety of the management discussion and analysis, the Company's
consolidated financial statements and notes thereto, and all other
items contained within the Company’s 2020 Annual Report on
Form 10-K as filed with the Securities and Exchange
Commission.
As a result of the
spread of the ongoing coronavirus (“COVID-19”)
pandemic, economic uncertainties have arisen which can impact the
fair value of investments, day-to-day administration of the
business and premium volume. While the Company does not believe it
is exposed to substantial risk from coronavirus-related claims
under the insurance policies written by Crusader, it is possible
that the Company’s results of
operations, financial condition and the fair value of its
investment portfolio may be adversely affected by the general
economic conditions as a result of the governmental responses to
the pandemic.
The effects of the ongoing COVID-19 pandemic were
a major contributor to the variability in fair value of the
Company’s fixed income and equity investments during the
three months ended March 31,
2020, however, the investment portfolio recovered in value in
subsequent quarters. The governmental response to the pandemic
contributed to the recent decline in investment yields, compared to
the previous years, which will cap the Company’s investment
portfolio’s ability to generate higher levels of investment
income, absent a larger invested asset base or a change in
investment philosophy.
Crusader
has received a number of coronavirus-related business interruption
claims. With an exception of a handful of claims for which
investigation is still ongoing, all such claims were denied after
the individual circumstances of each claim were reviewed to
determine whether insurance coverage applied. Like many companies
in the property casualty insurance industry, Crusader was named as
defendant in lawsuits seeking insurance coverage under the policies
issued by Crusader for alleged economic losses resulting from the
shutdown or suspension of their businesses due to the COVID-19
pandemic. Although the allegations vary, the plaintiffs generally
seek a declaration of insurance coverage, damages for breach of
contract in unspecified amounts for claim denials, interest and
attorney fees. Some of the lawsuits also allege that the insurance
claims were denied in bad faith or otherwise in violation of state
laws and seek extra-contractual or punitive damages.
Crusader
denies the allegations in these lawsuits and intends to continue to
vigorously defend them. Although the policy terms vary in general,
the claims at issue in these lawsuits were denied because the
policyholder identified no direct physical loss, such as fire or
water damage, to property at the insured premises, and the
governmental orders that led to the complete or partial shutdown of
the business were not due to the existence of any direct physical
loss or damage to property in the immediate vicinity of the insured
premises and did not prohibit access to the insured premises, as
required by the terms of the insurance policies. Depending on the
individual policy, additional policy terms and conditions may also
prohibit coverage, such as exclusions for pollutants, ordinance or
law, loss of use, and acts or decisions. Most of Crusader’s
policies also contain an exclusion for losses caused directly or
indirectly by “virus or bacteria.”
In
addition to the inherent difficulty in predicting litigation
outcomes, the COVID-19 pandemic business income coverage lawsuits
present a number of uncertainties and contingencies that are not
yet known, including how many policyholders will ultimately file
claims, the number of lawsuits that will be filed, the extent to
which any class may be certified, and the size and scope of any
such classes. The legal theories advanced by plaintiffs vary by
case. These lawsuits are in the early stages of litigation; many
complaints continue to be amended; several have been dismissed
voluntarily and may be refiled; and others have been dismissed by
trial courts. Some early decisions on motion filings have been
appealed.
On March 23, 2021,
ten policyholders sued Crusader in a putative class action
entitled Anchors & Whales
LLC et al. v. Crusader Insurance Company, Superior Court of
the State of California for the County of San Francisco
(CGC-21-590999). The action alleges that Crusader wrongly
denied claims for business interruption coverage made by bars and
restaurants related to the COVID-19 pandemic and related government
orders that limited or halted operations of bars and
restaurants. The action further alleges that Crusader acted
unreasonably in denying the claims, and it seeks as damages the
amounts allegedly due as contract benefits under the insurance
policies, attorneys’ fees and costs, punitive damages, and
other unspecified damages. The lawsuit alleges a putative
class of all bars and restaurants in California that were insured
by Crusader for loss of business income, who made such a claim as a
result of “one or more Governmental Orders and the presence
of the COVID-19 virus on the property,” and whose claim was
denied by Crusader. The Company intends to contest the
allegations and to contest certification of any class. Due date for
the Company’s answer is May 20, 2021.
While the
coronavirus pandemic is also
affecting the Company’s internal operations, the Company
implemented a plan at the onset of the COVID-19 pandemic to help
its operations continue effectively during the ongoing pandemic,
including processes to limit the spread of COVID-19 among
employees. For example, the Company modified its business practices
in accordance with social distancing and safety guidelines,
allowing many work-from-home arrangements, flexible work schedules,
and restricted business travel. The Company’s employees are
following the guidelines and approximately 75% are working from
their homes. The Company will follow governmental safety guidelines
in determining on when to remove the coronavirus-related business
restrictions and on when to allow the employees working from their
homes to return to their workplaces; at this point, the Company
does not have an estimate on when these changes will occur. While
the pandemic has created new challenges for the Company, the
Company’s ability to maintain its operations, internal
controls and relationships has not been adversely
affected.
The Company’s
financial performance suffered in recent years, reporting net
losses for each fiscal year beginning with the year ended December
31, 2015. While losses in recent years have been driven primarily
by losses from Crusader’s policies and their high loss
ratios, management believes that other contributing factors include
(1) the growth of some of the Company’s non-routine expenses
relative to flat or declining revenues, (2) the failure to have
replaced or upgraded the Company’s legacy IT system in order
to process Crusader’s smaller premium accounts more
efficiently, and (3) the failure to have shifted focus to larger
premium accounts and fee-for-service operations.
In light of the
challenges faced and operational results, the Company has taken
several steps to improve its results. To improve revenues the
Company is working to improve its sales in the markets that it has
historically served, to gain access to markets that it has not
previously served, and to generate new sources of revenue on a
fee-for-service basis. For example, the Company also re-activated
its US Risk Managers, Inc. subsidiary so that it can provide claims
adjustment services to non-affiliated insurers and to self-insurers
on a fee-for-service basis (i.e., where Crusader will not be
underwriting the risk), providing the potential for an alternative
revenue source to the Company.
On November 24,
2020, United Specialty Insurance Company (“USIC”) and
certain Company’s subsidiaries entered into the following
agreements pursuant to which USIC will underwrite property and
casualty insurance policies on a surplus lines basis by and through
Unifax and such policies will be reinsured by
Crusader:
●
USIC and Crusader
entered into a Quota Share Reinsurance Agreement, effective April
1, 2020, (the “Reinsurance Agreement”), pursuant to
which Crusader will reinsure all of USIC’s liability for
policies issued by USIC and produced by Unifax for property,
general liability, CMP property, CMP liability and other
miscellaneous coverages, subject to certain maximum policy limits.
Policies placed with USIC by Unifax and reinsured with Crusader
from April 1, 2020, to November 24, 2020, remain in place without
interruption or change and are subject to the Reinsurance
Agreement.
●
USIC and Unifax
entered into a Surplus Line Broker Agreement, effective April 1,
2020 (the “Broker Agreement”), pursuant to which USIC
authorized Unifax to act as its broker and agent for the purpose of
producing and administering certain specified classes of insurance
policies, which are the subject of the Reinsurance Agreement. Under
the Broker Agreement, Unifax is entitled to retain a commission for
policies produced based on a percentage of the premiums on business
placed with USIC. Unifax has agreed to indemnify and hold USIC
harmless from any losses relating to the Broker
Agreement.
●
USIC and U.S. Risk
Managers, Inc. (“U.S. Risk”) entered into a Claims
Administration Agreement, effective as of April 1, 2020 (the
“Claims Administration Agreement”). Pursuant to the
Claims Administration Agreement, USIC appointed U.S. Risk, which is
a licensed claims adjuster in the state of California, to adjust
and settle claims on its behalf in connection with the surplus
lines policies issued by USIC in connection with the Reinsurance
Agreement. U.S. Risk will be paid a fee by Unifax on behalf of USIC
based on a percentage of earned premium. U.S. Risk has agreed to
indemnify and hold USIC harmless from any losses relating to the
Claims Administration Agreement.
In 2018, the
Company determined that the cost to replace its legacy IT system
would be between $4,000,000 and $8,000,000, and the installation of
such a system would take between two to four years. After weighing
the time and expense involved against the anticipated benefit from
such an investment, the Company opted for what it then perceived to
be a less expensive upgrade to its legacy system to an IBM
platform. While initially expected to be completed by the end of
2019, at a cost of approximately $300,000, excluding costs of
Unico’s employees involved in the upgrade, the system upgrade
was completed at the end of the first quarter of 2021 at a cost of
approximately $1,500,000, excluding costs of Unico’s
employees involved in the upgrade, due to unexpected technical
challenges. The Company is exploring options to further modernize
the system to improve its external producers’ experience and
to enhance efficiency of its operations. In light of the
significant delays and increases in cost associated with its legacy
upgrade project, the Company deployed additional resources toward
the management of this project and had renegotiated the
relationship that it has with the non-affiliated vendor working on
this project.
Revenue and Income Generation
The Company
receives its revenues primarily from earned premium derived from
the insurance company operations, commission and fee income
generated from the insurance agency operations, finance charges and
fee income from the premium finance operations, and investment
income from cash generated primarily from the insurance company
operation. The insurance company operation, excluding the gain on
real estate sale, generated approximately 94% and 93%
of consolidated revenues for the three months ended March 31,
2021 and 2020, respectively. None of the Company’s other
operations is individually material to consolidated
revenues.
Insurance Company Operation
As of March 31,
2021, Crusader was licensed as an admitted insurance carrier in the
states of Arizona, California, Nevada, Oregon, and Washington. From
2004 until September 2014, all of Crusader’s business was
written in the state of California. Crusader’s business
remains concentrated in California (100% and 99.9% of direct
written premium (before reinsurance ceded) during the three months
ended March 31, 2021 and 2020, respectively). During the three
months ended March 31, 2021 and 2020, approximately 99.5% and
98.6%, respectively of Crusader’s business was commercial multiple peril
(“CMP”) policies.
Crusader’s
total gross written premium (direct and assumed written premium
before cessions to reinsurers under reinsurance treaties), as
reported on Crusader’s statutory financial statements, was
produced geographically as follows:
|
Three Months Ended March
31
|
|
|
|
|
|
|
|
|
California
|
$10,482,545
|
$9,195,864
|
$1,286,681
|
Arizona
|
-
|
11,022
|
(11,022)
|
Total
gross written premium
|
$10,482,545
|
$9,206,886
|
$1,275,659
|
Crusader believes
that it can grow its sales and profitability through improved
specialization and sales incentives. Crusader currently focuses in
three underwriting verticals: (1) Transportation, (2) Mainstreet,
and (3) Buildings. The Company reorganized its underwriting
verticals for proper staffing and business focus. The former Food,
Beverage and Entertainment and Garage and Mercantile verticals
became Mainstreet, and Apartments was transformed into Buildings.
Crusader also is evaluating the possibility of expanding its
operations geographically, on an admitted or non-admitted basis, so
as to offer similar products in other states, but the timing of any
such expansion is not yet determined.
Written premium is
a non-GAAP financial measure that is defined, under statutory
accounting principles (“SAP”), as the contractually
determined amount charged by the insurance company to the
policyholder for the effective period of the contract based on the
expectation of risk, policy benefits, and expenses associated with
the coverage provided by the terms of the policies. Written premium
is a required statutory measure. Written premium is defined under
GAAP in Accounting Standards Codification Topic 405,
“Liabilities,” as “premiums on all policies an
entity has issued in a period.” Earned premium, the most
directly comparable GAAP measure to written premium, represents the
portion of written premium that is recognized as income in the
financial statements for the period presented and earned on a
pro-rata basis over the terms of the policies. Written premium is
intended to reflect production levels and is meant as supplemental
information and not intended to replace earned premium. Such
information should be read in connection with the Company’s
GAAP financial results.
The
following is a reconciliation of gross written premium (direct and
assumed written premium before cessions to reinsurers under
reinsurance treaties) to net earned premium (after premium ceded to
reinsurers under reinsurance treaties):
|
Three Months Ended March
31
|
|
|
|
|
|
|
Direct written
premium
|
$10,176,863
|
$9,206,886
|
Assumed written
premium
|
305,682
|
-
|
Less:
written premium ceded to reinsurers
|
(2,779,992)
|
(1,979,127)
|
Net written
premium
|
7,702,553
|
7,227,759
|
Change in direct
unearned premium
|
(883,694)
|
(297,061)
|
Change in assumed
unearned premium
|
(211,216)
|
-
|
Change in ceded
unearned premium
|
(3,883)
|
(19,564)
|
Net
earned premium
|
$6,603,760
|
$6,911,134
|
The insurance
company operation underwriting profitability is defined by pre-tax
underwriting gain, which is calculated as net earned premium less
losses and loss adjustment expenses and policy acquisition
costs.
Crusader’s
underwriting loss before income taxes is as follows:
|
Three Months Ended March
31
|
|
|
|
|
|
|
|
|
Net written
premium
|
$7,702,553
|
$7,227,759
|
$474,794
|
Change in net
unearned premium
|
(1,098,793)
|
(316,625)
|
(782,168)
|
Net earned
premium
|
6,603,760
|
6,911,134
|
(307,374)
|
Less:
|
|
|
|
Losses and loss
adjustment expenses
|
5,585,213
|
5,877,385
|
(292,172)
|
Policy acquisition
costs
|
1,021,965
|
1,144,425
|
(122,460)
|
Total
underwriting expenses
|
6,607,178
|
7,021,810
|
(414,632)
|
Underwriting
loss before income taxes
|
$(3,418)
|
$(110,676)
|
$107,258
|
Underwriting gain
or loss before income taxes is a non-GAAP financial measure.
Underwriting gain or loss before income taxes represents one
measure of the pretax profitability of the insurance company
operation and is derived by subtracting losses and loss adjustment
expenses, and policy acquisition costs from net earned premium,
which are all GAAP financial measures. Management believes
disclosure of underwriting income or loss before income taxes is
useful supplemental information that helps align the reader’s
understanding with management’s view of insurance company
operations profitability. Each of these captions is presented in
the Condensed Consolidated Statements of Operations but is not
subtotaled.
The following is a
reconciliation of Crusader’s underwriting loss before income
taxes to the Company’s income (loss) before
taxes:
|
Three Months Ended March
31
|
|
|
|
|
|
|
Underwriting loss
before income taxes
|
$(3,418)
|
$(110,676)
|
Insurance company
operation revenues:
|
|
|
Net
investment income
|
514,723
|
520,692
|
Net
realized investment gains
|
55,399
|
1,114
|
Net
realized gains on real estate sale
|
3,693,858
|
-
|
Net
unrealized investment gains (losses) on equity
securities
|
151,667
|
(44,800)
|
Other
income (loss)
|
(26,752)
|
80,937
|
Other insurance
operations revenues:
|
|
|
Gross
commissions and fees
|
433,461
|
469,069
|
Finance
charges and fees earned
|
44,998
|
67,019
|
Other
income
|
540
|
16
|
Less
expenses:
|
|
|
Salaries
and employee benefits
|
1,128,090
|
1,122,499
|
Commissions
to agents/brokers
|
20,568
|
25,955
|
Other
operating expenses
|
1,173,479
|
980,415
|
Income
(loss) before taxes
|
$2,542,339
|
$(1,145,498)
|
Unearned premiums
represent premium applicable to the unexpired terms of policies in
force. The Company evaluates its unearned premiums periodically for
premium deficiencies by comparing the sum of expected claim costs,
unamortized deferred policy acquisition costs, and maintenance
costs partially offset by net investment income to related unearned
premiums. To the extent that any of the Company’s programs
become unprofitable, a premium deficiency reserve may be required.
The Company recognized a premium deficiency of $150,000 as of March
31, 2021. The Company did not carry a premium deficiency reserve as
of March 31, 2020. The premium deficiency was recorded as a
reduction in deferred policy acquisition costs.
The following table
shows the loss ratios, expense ratios, and combined ratios of
Crusader:
|
Three Months Ended March
31
|
|
|
|
|
|
|
Loss ratio
(1)
|
85%
|
85%
|
Expense ratio
(2)
|
31%
|
37%
|
Combined ratio
(3)
|
116%
|
122%
|
(1) Loss ratio is
defined as losses and loss adjustment expenses divided by net
earned premium.
(2) Expense ratio
is defined as a sum of policy acquisition costs and portions of
indirect salaries and employee benefits and other operating
expenses allocation to the insurance company operations, reduced by
allocation of gross commissions and fees and other income, divided
by net earned premium.
(3) Combined ratio
is defined as a sum of loss ratio and expense ratio.
The following table
provides an analysis of losses and loss adjustment
expenses:
|
Three Months Ended March
31
|
|
|
|
|
Losses and loss
adjustment expenses:
|
|
|
|
Provision
for insured events of current year
|
$6,757,564
|
$5,161,176
|
$1,596,388
|
Development
of insured events of prior years
|
(1,172,351)
|
716,209
|
(1,888,560)
|
Total
losses and loss adjustment expenses
|
$5,585,213
|
$5,877,385
|
$(292,172)
|
For further
analysis of losses and loss adjustment expenses, refer to
“Results of Operations”.
On
February 5, 2021, A.M. Best Company revised the outlooks to
negative from stable and affirmed the FSR of B++ (Good) and
Long-Term ICR of “bbb” of Crusader. Additionally, A.M.
Best has revised the outlook to negative from stable and affirmed
the Long-Term ICR of “bb” of the Company. Crusader is a
wholly owned subsidiary of the Company.
The
negative outlooks capture A.M. Best’s concerns with
Crusader’s declining underwriting performance, the
Company’s overall capitalization and the execution risk
associated with implementing strategic operating changes to address
these conditions.
The
Long-Term ICRs reflect Crusader’s balance sheet strength,
which A.M. Best categorizes as very strong, as well as its marginal
operating performance, limited business profile and marginal
enterprise risk management.
Some of
Crusader’s policyholders, or the lenders, landlords or
clients of Crusader’s policyholders, require insurance from a
company that has an A.M. Best FSR of “A-” or higher,
and the A.M. Best’s changed ratings of Crusader may also have
a negative impact on Crusader’s reputation. Therefore,
Crusader’s and Unico’s changed ratings may have a
negative impact on the Company’s revenue and results of
operations. The Company cannot quantify the impact that the rating
changes have had or will have on its revenue and results of
operations, and the Company cannot determine if or when Crusader
might regain the “A-” FSR from A.M. Best.
The reinsurance
arrangement with USIC allows Unifax to offer its customers policies
written on USIC paper, which has A.M. Best FSR of “A,”
when such rating is required.
The
property and casualty insurance business is cyclical in nature. The
conditions of a “soft market” include premium rates
that are stable or falling and insurance is readily available.
Contrarily, “hard market” conditions occur during
periods in which premium rates rise and coverage may be more
difficult to find. The Company believes that the California
property and casualty insurance market is relatively mature and
intensely competitive, with different products in different stages
of the soft/hard market cycle at any given time.
Revenues from Other Insurance Operations
The Company’s
revenues from other insurance operations consist of commissions,
fees, investment and other income. These operations accounted for
approximately 6% and 7% of total revenues, excluding the gain on
real estate sale, in the three months ended March 31, 2021 and
2020, respectively.
Investments
The Company
generated revenues from its total invested assets of $93,101,712
(fixed maturities at amortized cost, equity securities at cost and
short-term investments at fair value) and $85,312,889 (fixed
maturities at amortized cost, equity securities at cost and
short-term investments at fair value) as of March 31, 2021 and
2020, respectively.
Investment income
(net of investment expenses) decreased $5,969 (1%) to $514,723 for
the three months ended March 31, 2021, compared to $520,692 for the
three months ended March 31, 2020. This decrease in investment
income was due primarily to the decrease in the yield on average
invested assets.
Due to the current
interest rate environment, the current target effective duration
for the Company’s investment portfolio is between 2.0 and 4.0
years. As of March 31, 2021, all of the Company’s investments
are in U.S. Treasury securities, corporate fixed maturity
securities, agency mortgage-backed securities, common stock,
Federal Deposit Insurance Corporation (“FDIC”) insured
certificates of deposit, money market funds, and a savings account.
The Company’s investments in U.S treasury securities,
corporate fixed maturity securities, agency mortgage-backed
securities, common stock and money market funds are readily
marketable. As of March 31, 2021, the weighted average maturity of
the Company’s investments was approximately 8.2 years, and
the effective duration for available-for-sale investments
(investments managed under the investment guidelines) was 2.7
years.
LIQUIDITY AND CAPITAL RESOURCES
The most
significant liquidity risk faced by the Company is adverse
development of the insurance company’s loss and loss
adjustment expense reserves. Based on the Company’s
current loss and loss expense reserves and expected current and
future payments, the Company believes that there are no current
liquidity issues. However, no assurance can be given that the
Company’s estimate of ultimate loss and loss adjustment
expense reserves will be sufficient.
Crusader has a
significant amount of cash, cash equivalents, and investments as a
result of its holdings of unearned premium reserves, its reserves
for loss and loss adjustment expense payments, and its capital and
surplus. Crusader's loss and loss adjustment expense payments
are the most significant cash flow requirement of Crusader. Those
payments are monitored and projected to ensure that Crusader has
liquidity to cover those payments without the need to liquidate
investments. Cash, cash equivalents, and investments (at
amortized cost) of Crusader at March 31, 2021, were
$108,874,469 compared to $87,575,700 at December 31, 2020.
Crusader's cash, cash equivalents, and investments were 99% and 98%
of the total cash and investments (at amortized cost) held by
Crusader as of March 31, 2021, and December 31, 2020, respectively.
As disclosed in the Company’s 2020 Annual Report on
Form 10-K, a Company Action Level Event of Crusader was deemed to
have occurred as of December 31, 2020. On March24, 2021, Crusader
submitted a Risk Based Capital Plan (the “RBC Plan”) to
the CA DOI to address the actions that Crusader will take to
correct the conditions that resulted in the Company Action Level
Event.
The Company
generally receives dividends annually from Crusader to fund its
operations and expenses. In 2021, any dividend to be paid between
June 1, 2021 and September 15, 2021 by Crusader in excess of
$893,515 will require the prior approval of the CA DOI as an
extraordinary dividend. After September 15, 2021 until December 31,
2021, Crusader may pay dividends not in excess of $2,893,515 as
ordinary dividends after notice to the CA DOI. Such ordinary
dividends are not subject to the prior approval of the CA
DOI.
As of March 31,
2021 all of the Company’s investments are in U.S. Treasury
securities, FDIC insured certificates of deposit, corporate fixed
maturity securities, agency mortgage-backed securities, common
stock and short-term investments. All of the Company’s
investments, except for the certificates of deposit, are readily
marketable.
The composition of
Company’s investment portfolio is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed
maturities:
|
|
|
|
|
U.S.
Treasury securities
|
$10,754,166
|
$10,883,041
|
$10,596,808
|
$10,832,181
|
Corporate
securities
|
46,200,918
|
47,462,245
|
44,159,926
|
46,451,905
|
Agency
mortgage-backed securities
|
29,564,648
|
30,205,068
|
25,314,546
|
26,125,608
|
Certificates
of deposit
|
798,000
|
798,000
|
798,000
|
798,000
|
Total
fixed maturity investments
|
87,317,732
|
89,348,354
|
80,869,280
|
84,207,694
|
Equity
securities
|
2,834,034
|
3,183,967
|
2,548,440
|
2,746,706
|
Short-term cash
investments
|
2,949,946
|
2,949,946
|
200,000
|
200,000
|
Total
investments
|
$93,101,712
|
$95,482,267
|
$83,617,720
|
$87,154,400
|
The short-term
investments include U.S. Treasury bills and certificates of deposit
that are all highly rated and have initial maturity between three
and twelve months. Amortized costs of the short-term investments
approximate their fair values.
The Company is
required to classify its investment securities into one of three
categories: held-to-maturity, available-for-sale, or trading
securities. Although part of the Company's investments in fixed
maturity securities is classified as available-for-sale and, while
the Company may sell investment securities from time to time
in response to economic, regulatory,
and market conditions, its investment guidelines place
primary emphasis on buying and holding high-quality investments to
maturity.
The Company’s
Board of Directors approved investment guidelines which reflect the
Company’s risk, balance sheet, and profile.
Under the
Company’s investment guidelines, investments may only include
U.S. Treasury notes, U.S. government agency notes, mortgage-backed
securities (including pass through securities and collateralized
mortgage obligations) that are backed by agency and non-agency
collateral, commercial mortgage-backed securities, U.S. corporate
obligations, asset-backed securities, (including but not limited to
credit card, automobile and home equity backed securities),
tax-exempt bonds, preferred stocks, common stocks, commercial
paper, repurchase agreements (treasuries only), mutual funds,
exchange traded funds, bank certificates of deposits and time
deposits. The investment guidelines provide for certain investment
limitations in each investment category.
Unless agreed to in
advance in writing by Crusader, investments in the following types
of securities are prohibited:
●
Mortgage loans,
except for mortgage backed securities issued by an agency of the
U.S. government.
●
Derivative
mortgage-backed securities including interest only, principal only
and inverse floating rate securities.
●
All
fixed maturity real estate securities, except mortgage-backed
securities (including pass through securities and collateralized
mortgage obligations) that are backed by agency and non-agency
collateral and commercial mortgage-backed securities.
●
Options
and futures contracts.
●
All
non-U.S. dollar denominated securities.
●
Any
security that would not be in compliance with the regulations of
Crusader’s state of domicile.
An independent
investment advisor manages Crusader’s investments. The
advisor’s role currently is limited to maintaining
Crusader’s portfolio within the investment guidelines and
providing investment accounting services to the Company. The
investments continue to be held by Crusader’s current
custodian, Union Bank Global Custody Services.
As of March 31,
2021, one corporate security, included in available-for-sale fixed
maturities, was held as collateral with Comerica Bank & Trust,
N. A. (“Comerica”), pursuant to the reinsurance trust
agreement among Crusader, USIC and Comerica to secure payment of
Crusader’s liabilities and performance of its obligations
under the reinsurance arrangement with USIC. The estimated fair
value and amortized cost of that security was $821,000 and $788,858
on March 31, 2020, respectively.
On August 10, 2020,
the Board authorized a share repurchase program (the “2020
Program”) for up to $5,000,000 of the currently outstanding
shares of the Company’s common stock. The 2020 Program was
effective immediately and replaced the Company’s existing
share repurchase program that was adopted by the Board of Directors
on December 19, 2008 (the “2008 Program”) to
acquire from time to time up to an aggregate of 500,000 shares of
the Company’s common stock. The purchases under the 2020
Program may be made from time to time in the open market, through
block trades, 10b5-1 trading plans, privately negotiated
transactions or otherwise and in accordance with applicable laws,
rules and regulations. The timing and actual number of the shares
repurchased under the 2020 Program will depend on a variety of
factors including price, market conditions and corporate and
regulatory requirements. The Company intends to fund the share
repurchases under the 2020 Program from cash on hand. The 2020
Program does not commit the Company to repurchase shares of its
common stock and it may be amended, suspended or discontinued at
any time. The Company repurchased its shares under the 2020 Program
and 2008 Program in unsolicited transactions as
follows:
|
Three Months
Ended
March 31
|
|
|
|
|
|
|
2020 Program
|
|
|
Number of shares
repurchased
|
-
|
-
|
Cost of shares
repurchased
|
|
|
Allocated
to retained earnings
|
$-
|
$-
|
Allocated
to capital
|
-
|
-
|
Total
cost of shares repurchased
|
$-
|
$-
|
|
|
|
2008 Program
|
|
|
Number of shares
repurchased
|
-
|
978
|
Cost of shares
repurchased
|
|
|
Allocated
to retained earnings
|
$-
|
$5,760
|
Allocated
to capital
|
-
|
480
|
Total
cost of shares repurchased
|
$-
|
$6,240
|
The Company has
remaining authority under the 2020 Program to repurchase up to
$4,995,507 of the currently outstanding shares of the
Company’s common stock as of March 31, 2021. The Company has
retired or will retire all stock repurchased under the 2020 Program
and 2008 Program.
The Company
reported $1,135,389 net cash provided by operating activities for
the three months ended March 31, 2021, compared to $6,884
net cash used by operating activities for the three months ended
March 31, 2020. Fluctuations in cash
flows from operating activities relate to changes in loss and loss
adjustment expense payments, unearned premium holdings, and the
timing of the collection and the payment of insurance-related
receivables and payables. The variability of the
Company’s losses and loss adjustment expenses is due
primarily to its small population of claims which may result in
greater fluctuations in claim frequency and/or severity.
Although the Condensed Consolidated
Statements of Cash Flows reflect net cash used by operating
activities, the Company does not anticipate future liquidity
problems, and the Company believes it continues to be well
capitalized and adequately reserved.
While material
capital expenditures may be funded through borrowings, the Company
believes that its cash and short-term investments at March 31,
2021, net of
statutory deposits of $710,000, and California insurance company
statutory dividend restrictions applicable to Crusader, plus the
cash to be generated from operations, should be sufficient to meet
its operating requirements during the next 12 months without the
necessity of borrowing funds.
RESULTS OF OPERATIONS
All comparisons
made in this discussion are comparing the three months ended March
31, 2021, to the three months ended March 31, 2020, unless
otherwise indicated.
For the three
months ended March 31, 2021, total revenues were $11,471,654, an
increase of $3,466,473 (43%) compared to total revenues of
$8,005,181 for the three months ended March 31, 2020. For the three
months ended March 31, 2021, the Company had income before taxes of
$2,542,339 compared to loss before taxes of $1,145,498 for the
three months ended March 31, 2020. For the three months ended March
31, 2021, the Company had net income of $2,267,703 compared to net
loss of $1,043,826 for the three months ended March 31,
2020.
The increase in
revenues of $3,466,473 for the three months ended March 31, 2021,
when compared to March 31, 2020, was primarily due to the realized
gain of $3,693,858 on the sale of the Calabasas
Building.
The income before
tax of $2,542,339 for the three months ended March 31, 2021,
compared to loss before taxes of $1,145,498 for the three months
ended March 31, 2020, was due primarily due to the realized gain of
$3,693,858 on the sale of the Calabasas Building, a decrease in
losses and loss adjustment expenses of $292,172 (5%), offset by an
increase in other operating expenses of $193,064
(20%).
Crusader premium
Crusader’s
primary lines of business are written on Commercial Multi Peril
policies. These policies represented approximately 99.5% and 98.6%
of Crusader’s total written premium for the years ended March
31, 2021 and 2020, respectively.
Gross written
premium (direct and assumed written premium before cessions to
reinsurers under reinsurance treaties) reported on Crusader’s
statutory financial statements increased $1,275,659 (14%) to
$10,482,545 for the three months ended March 31, 2021, compared to
$9,206,886 for the three months ended March 31, 2020.
The increase in
gross written premium for the three months ended March 31, 2021,
was due primarily to growth in the Company’s Transportation
vertical, transacted by Crusader. The Transportation vertical
transacts insurance primarily for long-haul trucking operations
that are domiciled in California. The growth in the Company’s
Transportation vertical was partially offset by coronavirus-related
contraction in the Mainstreet underwriting vertical for
Crusader.
Due
to the inability to obtain rate increases from the CA DOI or change
policy language to exclude habitability related perils to
profitably underwrite its Building program policies, the Company
stopped renewing its existing policies on Crusader’s paper
and is now offering this product on USIC paper.
Written premium
Written premium is
a required statutory measure. Written premium is a non-GAAP
financial measure that is defined, under SAP, as the contractually
determined amount charged by the insurance company to the
policyholder for the effective period of the contract based on the
expectation of risk, policy benefits, and expenses associated with
the coverage provided by the terms of the policies.
Written premium is
defined under GAAP in Accounting Standards Codification Topic 405,
“Liabilities,” as “premiums on all policies an
entity has issued in a period.” Earned premium, the most
directly comparable GAAP measure to written premium, represents the
portion of written premium that is recognized as income in the
financial statements for the period presented and earned on a
pro-rata basis over the terms of the policies. Written premium is
intended to reflect production levels and is meant as supplemental
information and not intended to replace earned premium. Such
information should be read in connection with the Company’s
GAAP financial results.
Gross earned premium
Gross earned
premium increased $477,809 (5%) to $9,387,634 for the three months
ended March 31, 2021, compared to $8,909,825 for the three months
ended March 31, 2020. All policies are written on annual basis.
Earned premium represents a portion of written premium that is
recognized as income in the consolidated financial statements for
the period presented and earned daily on a pro-rata basis over the
terms of the policies, and, therefore, premiums earned in the
current year are related to policies written during both the
current year and immediately preceding year. The increase in gross
earned premium was due primarily to an increase in gross written
premium in 2020 and 2021.
Ceded earned premium
Ceded earned
premium (premium ceded to reinsurers under reinsurance treaties)
increased $785,183 (39%) to $2,783,874 for the three months ended
March 31, 2021, compared to $1,998,691 for the three months ended
March 31, 2020. Ceded earned premium as a percentage of direct
earned premium was 30% and 22% for the three months ended March 31,
2021 and 2020, respectively. The increase in the ceded earned
premium for the three months ended March 31, 2021, compared to the
three months ended March 31, 2020, was due primarily to higher
gross earned premium subject to reinsurance treaties and
significantly higher rates on excess of loss reinsurance
treaties.
Reinsurance
treaties are generally structured in layers, with different
negotiated economic terms and retention of participation, or
liability, in each layer. In calendar years 2021 and 2020, Crusader
retained participation in its excess of loss reinsurance treaties
of 0% in its 1st layer (reinsured
losses between $500,000 and $1,000,000), 0% in its 2nd layer (reinsured
losses between $1,000,000 and $4,000,000), and 0% in its property
and casualty clash treaty.
Crusader also has
catastrophe reinsurance treaties from various highly rated
California authorized and California unauthorized reinsurance
companies. These reinsurance treaties help protect Crusader against
losses in excess of certain retentions from catastrophic events
that may occur on property risks which Crusader insures. In
calendar years 2021 and 2020, Crusader retained a participation in
its catastrophe excess of loss reinsurance treaties of 5% in its
1st layer
(reinsured losses between $1,000,000 and $10,000,000) and 0% in its
2nd layer
(reinsured losses between $10,000,000 and
$46,000,000).
Crusader evaluates
each of its ceded reinsurance contracts at its inception to
determine if there is a sufficient risk transfer to allow the
contract to be accounted for as reinsurance under current
accounting literature. As of March 31, 2021, all such ceded
contracts are accounted for as risk transfer
reinsurance.
A tabular
presentation of Crusader’s direct, assumed, ceded and net
earned premium is as follows:
|
Three months ended March
31
|
|
|
|
|
|
|
Direct earned
premium
|
$9,293,168
|
$8,909,825
|
Assumed earned
premium
|
94,466
|
-
|
Ceded earned
premium
|
(2,783,874)
|
(1,998,691)
|
Net
earned premium
|
$6,603,760
|
$6,911,134
|
|
|
|
Ratio of ceded
earned premium to gross earned premium (direct and assumed earned
premium)
|
30%
|
22%
|
Net Investment Income, Net Realized Investment Gains and Losses,
and Net Unrealized Investment Losses on Equity
Securities
Investment
income decreased $5,969
(1%) to $514,723 for the three months ended March 31, 2021,
compared to $520,692 for the three months ended March 31, 2020.
This decrease in investment income was due primarily to the
decrease in the market yields. The
Company had net realized investment gains of $55,399 for the three
months ended March 31, 2021, compared to net realized investment
gains of $1,114 for the three months ended March 31, 2020. The
Company had net unrealized investment gains on equity securities of
$151,667 for the three months ended March 31, 2021 compared to net
unrealized investment losses on equity securities of $44,800 for
the three months ended March 31, 2020.
Average annualized
yields on the Company’s average invested assets and
investment income, excluding net realized investment gain and
losses and net unrealized investment losses on equity securities,
are as follows:
|
Three Months Ended March
31
|
|
|
|
|
|
|
Average invested
assets (1) - at amortized cost
|
$88,417,672
|
$85,155,058
|
Net investment
income from:
|
|
|
Invested
Assets (2)
|
$514,392
|
$517,178
|
Cash
Equivalents
|
331
|
3,514
|
Total
investment income
|
$514,723
|
$520,692
|
Annualized yield on
average invested assets (3)
|
2.3%
|
2.4%
|
(1)
The average is
based on the beginning and ending balance of the amortized cost of
the invested assets for each respective period.
(2)
Investment income
from insurance company operation included $34,581 of investment
expense for the three months ended March 31, 2021, compared to
$34,879 of investment expense for the three months ended March 31,
2020.
(3)
Annualized
yield on average invested assets did
not include the investment income from cash
equivalents.
The par value,
amortized cost, estimated market value and weighted average yield
of fixed maturity investments by contractual maturity are as
follows:
Maturities by Year at March 31,
2021
|
|
|
|
|
|
|
|
|
|
Due in one
year
|
$10,905,247
|
$10,900,538
|
$10,987,756
|
2.55%
|
Due after one year
through five years
|
30,646,091
|
30,729,814
|
31,646,335
|
2.38%
|
Due after five
years through ten years
|
20,002,085
|
20,105,252
|
20,656,950
|
2.43%
|
Due after ten years
and beyond
|
24,990,706
|
25,582,128
|
26,057,313
|
2.36%
|
Total
|
$86,544,129
|
$87,317,732
|
$89,348,354
|
2.41%
|
Maturities by Year at December 31,
2020
|
|
|
|
|
|
|
|
|
|
Due in one
year
|
$11,070,641
|
$11,064,202
|
$11,169,232
|
2.57%
|
Due after one year
through five years
|
30,065,671
|
30,090,910
|
31,260,694
|
2.59%
|
Due after five
years through ten years
|
18,363,570
|
18,476,051
|
19,806,444
|
2.51%
|
Due after ten years
and beyond
|
20,927,571
|
21,238,117
|
21,971,324
|
2.63%
|
Total
|
$80,427,453
|
$80,869,280
|
$84,207,694
|
2.58%
|
Expected maturities
will differ from contractual maturities because borrowers may have
the right to call or prepay obligations with or without
penalties.
The weighted
average maturity of the Company’s fixed maturity investments
was 8.2 years as of March 31, 2021, and 7.9 years as of March 31,
2020.
A summary of
estimated fair value, gross unrealized losses, and number of
securities in a gross unrealized loss position by the length of
time in which the securities have continually been in that position
is shown below:
|
|
|
|
|
|
|
|
|
|
March 31, 2021
|
|
|
|
|
|
|
U.S. Treasury
securities
|
$3,691,882
|
$(51,882)
|
3
|
$-
|
$-
|
-
|
Corporate
securities
|
9,841,887
|
(320,480)
|
14
|
891,000
|
(19,285)
|
1
|
Agency
mortgage-backed securities
|
7,990,649
|
(65,069)
|
11
|
-
|
-
|
-
|
Total
debt securities
|
21,524,418
|
(437,431)
|
28
|
891,000
|
(19,285)
|
1
|
Equity
securities
|
608,807
|
(24,884)
|
34
|
10,972
|
(749)
|
2
|
Total
|
$22,133,225
|
$(462,315)
|
62
|
$901,972
|
$(20,034)
|
3
|
|
|
|
|
|
|
|
|
|
|
December 31, 2020
|
|
|
|
|
|
|
Corporate
securities
|
2,101,986
|
(55,847)
|
2
|
-
|
-
|
-
|
Agency
mortgage-backed securities
|
3,223,329
|
(22,274)
|
12
|
-
|
-
|
-
|
Total
debt securities
|
5,325,315
|
(78,121)
|
14
|
-
|
-
|
-
|
Equity
securities
|
723,346
|
(37,357)
|
25
|
-
|
-
|
-
|
Total
|
$6,048,661
|
$(115,478)
|
39
|
$-
|
$-
|
-
|
While the fair value of Company’s investment
portfolio at March 31, 2021,
has recovered from the declines recorded in the first half of 2020,
the effects of the coronavirus pandemic were a major contributor to
the variability in fair value of the Company’s fixed income
and equity investments during the three months ended March 31,
2021, and the economic uncertainty caused by the pandemic may lead
to further investment valuation volatility. In addition, the recent
decline in investment yields resulted in lower reinvestment rates,
compared to the previous years, which will cap the Company’s
investment portfolio’s ability to generate higher levels of
investment income, absent a larger invested asset base or a change
in investment philosophy.
The
Company closely monitors its investments. If an unrealized loss is
determined to be other-than-temporary, it is written off as a
realized loss through the Condensed Consolidated Statements of
Operations. The Company’s methodology of assessing
other-than-temporary impairments is based on security-specific
analysis as of the balance sheet date and considers various factors
including the length of time to maturity and the extent to which
the fair value has been less than the cost, the financial condition
and the near-term prospects of the issuer, and whether the debtor
is current on its contractually obligated interest and principal
payments. The unrealized losses on all securities as of March 31,
2021, and December 31, 2020, were determined to be
temporary.
Although the Company does not intend to sell its
fixed maturity investments prior to maturity, the Company may sell
investment securities from time to time in response to cash flow
requirements, economic, regulatory, and/or market conditions or
investment securities may be called by their issuers prior to the
securities’ maturity. The fixed maturity securities
previously held by the Company were sold and called prior to
maturity as follows:
|
Three Months
Ended
March 31
|
|
|
|
|
|
|
Fixed maturities securities
sold
|
|
|
Number of
securities sold
|
1
|
1
|
Amortized cost of
sold securities
|
$249,995
|
$601,316
|
Realized gains
(losses) on sales
|
$2
|
$1,114
|
|
|
|
Fixed maturities securities
called
|
|
|
Number of
securities called
|
2
|
-
|
Amortized cost of
called securities
|
$1,374,901
|
$-
|
Realized gains on
calls
|
$99
|
$-
|
The unrealized
gains or losses from fixed maturities are reported as
“Accumulated other comprehensive income or loss,” which
is a separate component of stockholders’ equity, net of any
deferred tax effect.
Other income (loss)
Other loss included
in Insurance Company Revenues and Other Insurance Operations was
$26,212 for the three months ended March 31, 2021, compared to
income of $80,953 for the three months ended March 31, 2020. The
other loss was comprised primarily of $13,806 rental income, offset
by a $45,801 decrease in Crusader’s share of California FAIR
Plan equity during the three months ended March 31, 2021, compared
to $53,290 rental income and $27,661 increase in Crusader’s
share of California FAIR Plan equity during the three months ended
March 31, 2020.
Gross commissions and fees
Gross commissions
and fees decreased $35,608 (8%) to $433,461 for the three months
ended March 31, 2021, compared to gross commissions and
fees of $469,069 for the three months ended
March 31, 2020.
The comparison in
gross commission and fee income for the three months ended March
31, 2021, as compared to the three months ended March 31, 2020, are
as follows:
|
Three Months Ended March
31
|
|
|
|
|
|
|
|
|
Brokerage fee
income
|
$235,895
|
$261,043
|
$(25,148)
|
Health insurance
program
|
178,975
|
185,184
|
(6,209)
|
Membership and fee
income
|
18,591
|
22,842
|
(4,251)
|
Gross
commissions and fees
|
$433,461
|
$469,069
|
$(35,608)
|
Unifax sells and
services insurance policies for Crusader and USIC. For these
brokerage services, Unifax receives commissions from insurance
companies and fees from policyholders. The commissions paid by
Crusader to Unifax are eliminated as intercompany transactions and
are not reflected as income in the condensed consolidated financial
statements. Policy fee income received by Unifax is related to the
Crusader policies and service fee income received by Unifax is
related to the USIC policies. For financial statement reporting
purposes, brokerage fees are earned ratably over the life of the
related insurance policy. The unearned portion of the brokerage
fees is recorded as a liability on the Condensed Consolidated
Balance Sheets under “Accrued expenses and other
liabilities.” The earned portion of the brokerage fees
charged to the policyholder by Unifax is recognized as income in
the condensed consolidated financial statements. Brokerage fee
income decreased $25,148 (10%) in the three months ended March 31,
2021, compared to the three months ended March 31, 2020, due
primarily to reduction in policy counts.
AIB markets health
insurance in California through non-affiliated insurance companies
for individuals and groups. For these services, AIB receives
commission based on the premiums that it writes. Commission income
decreased $6,209 (3%) in the three months ended March 31, 2021,
compared to the three months ended March 31, 2020. The fluctuation
in commission income reported in the three months ended March 31,
2021, when compared to the prior year period, is primarily a result
of the loss of one large group account.
AAQHC is a third
party administrator for contracted insurance companies and is a
membership association that provides various consumer benefits to
its members, including participation in group health care insurance
policies that AAQHC negotiates for the association. For these
services, AAQHC receives membership and fee income from its
members. Membership and fee income decreased $4,251 (19%) for the
three months ended March 31, 2021, compared to the three months
ended March 31, 2020. This decrease is primarily a result of a
decrease in administration fees.
Finance charges and fees earned
Finance charges and
fees earned consist of finance
charges, late fees, returned check fees and payment processing
fees. These charges and fees earned by AAC decreased $22,021
(33%) to $44,998 for the three months ended March 31, 2021,
compared to $67,019 in fees earned during the three months ended
March 31, 2020, due primarily to the decrease in the number of
policies financed. AAC issued 231 loans and had 745 loans
outstanding during the three months ended March 31, 2021, compared
to 345 loans and 1,092 loans outstanding during the three months
ended March 31, 2020. AAC provides premium financing only for
Crusader policies produced by Unifax in California.
Losses and loss adjustment expenses
Loss and loss
adjustment expenses are the Company’s largest expense item.
Loss ratio, which is calculated by dividing losses and loss
adjustment expenses by net earned premium, was 85% for the three
months ended March 31, 2021, compared to 85% for the three months
ended March 31, 2020.
Losses and loss
adjustment expenses and loss ratios are as follows:
|
Three Months Ended March
31
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earned
premium
|
$6,603,760
|
|
$6,911,134
|
|
$(307,374)
|
|
|
|
|
|
|
Losses and loss
adjustment expenses:
|
|
|
|
|
|
Provision
for insured events of current year
|
6,757,564
|
102%
|
5,161,176
|
75%
|
1,596,388
|
Development
of insured events of prior years
|
(1,172,351)
|
(18)%
|
716,209
|
10%
|
(1,888,560)
|
Total
losses and loss adjustment expenses
|
$5,585,213
|
85%
|
$5,877,385
|
85%
|
$(292,172)
|
Some lines of
insurance are commonly referred to as "long-tail" lines because of
the extended time required before claims are ultimately settled.
Lines of insurance in which claims are settled relatively quickly
are called "short-tail" lines. It is generally more difficult to
estimate loss reserves for long-tail lines because of the long
period of time that elapses between the occurrence of a claim and
its final disposition and the difficulty of estimating the
settlement value of the claim. Crusader’s short-tail lines
consist of its property coverages, and its long-tail lines consist
of its liability coverages. However, Crusader’s long-tail
liability claims tend to be settled relatively quicker than other
long-tail lines not underwritten by Crusader, such as
workers’ compensation, professional liability, umbrella
liability, and medical malpractice. Since trends develop over
longer periods of time on long-tail lines of business, the Company
generally gives credibility to those trends more slowly than for
short-tail or less volatile lines of business.
The $6,757,564
provision for insured events of current year for the three months
ended March 31, 2021, was $1,596,388 higher than the
$5,161,176 provision for insured events of current year for the
three months ended March 31, 2020, due primarily to
higher severity of property claims
related to Crusader’s underwriting activities in the Building
and Mainsteet verticals, associated with fire losses during the
three months ended March 31, 2021, with five such fire-related
property losses totaling approximately $1,400,000 during such three
month period.
The $1,172,351
favorable development of insured events of prior years for the
three months ended March 31, 2021, was $1,888,560 higher
compared to the $716,209 adverse development for the three months
ended March 31, 2020, due primarily to reductions in the incurred
but not reported (“IBNR”) reserves associated with
Transportation and Buildings verticals due to positive claims
emergence during the three months
ended March 31, 2021.
Crusader has received 151 coronavirus-related
business interruption claims through March 31, 2021. While the Company does not believe it is
exposed to substantial risk from those claims under the insurance
policies written by Crusader, the individual circumstances of each
such claim are reviewed to fulfill Crusader’s obligation to
its policyholders if coverage applies. Further, there may be
impacts to the timing of loss emergence and ultimate loss ratios
for certain Crusader’s products due to postponements of civil
court cases, extensions of various statutes of limitations, changes
in settlement trends and other new legislative, regulatory or
judicial developments which could result in loss reserve
deficiencies and negative impact on results of
operations.
Crusader has received seven claims related to the
recent civil unrest through March 31, 2021. Crusader has sufficient excess of loss and
catastrophe reinsurance treaties to protect against exposure of
such claims. The Company believes the losses and loss adjustment
expenses associated with those claims will not exceed
Crusader’s $500,000 excess of loss reinsurance treaty
retention.
The following table
breaks out adverse (favorable) development from total losses and
loss adjustment expenses quarterly since
March 31, 2019:
|
Provision for Insured Events of
Current Year
|
Adverse
(Favorable)
Development of Insured Events of
Prior Years
|
Total Losses and Loss Adjustment
Expenses
|
Three Months
Ended:
|
|
|
|
March
31, 2021
|
$6,757,564
|
$(1,172,351)
|
$5,585,213
|
December
31, 2020
|
6,758,848
|
(202,270)
|
6,556,578
|
September
30, 2020
|
9,385,389
|
7,934,662
|
17,320,051
|
June
30, 2020
|
5,378,459
|
(489,553)
|
4,888,906
|
March
31, 2020
|
5,161,176
|
716,209
|
5,877,385
|
December
31, 2019
|
5,400,410
|
1,824,349
|
7,224,759
|
September
30, 2019
|
4,299,018
|
838,956
|
5,137,974
|
June
30, 2019
|
5,134,626
|
(75,675)
|
5,058,951
|
March
31, 2019
|
4,550,888
|
603,555
|
5,154,443
|
At the end of each
fiscal quarter, Crusader’s loss and loss adjustment expense
reserves for each accident year (i.e., for all claims incurred
within each year) are re-evaluated independently by the
Company’s president, the Company’s chief financial
officer, and by an independent consulting actuary. Generally
accepted actuarial methods, including the widely used
Bornhuetter-Ferguson and loss development methods, are employed to
estimate ultimate claims costs. An actuarial central estimate of
the ultimate claims costs and IBNR reserves is ultimately
determined by management and tested for reasonableness by the
independent consulting actuary.
Repeated
and sustained underwriting losses in Crusader’s Buildings
vertical and growth in Crusader’s Transportation vertical, a
product which is generally known for its difficulty to be
underwritten profitably, coupled with changes in the market
conditions and increases in social inflation (discussed below),
caused Crusader management to reevaluate the assumptions used in
its process for estimating loss and loss adjustment expense
reserves during the three months ended September 30, 2020. This
reevaluation and the use of updated assumptions led to
significantly more conservative estimates for expected claims
frequency, claims severity and ultimate incurred losses and loss
adjustment expenses during the quarterly re-evaluation of the loss
and loss adjustment expense reserves as of September 30, 2020. The
increase in the ultimate incurred losses and loss adjustment
expenses manifested primarily through higher IBNR reserves as of
December 31, 2020, for 2018, 2019, and 2020 accident year claims
pertaining to Buildings and Transportation liability coverages
during the three months ended September 30, 2020. During the three
months ended March 31, 2021, lower ultimate estimates for Building
liability coverage for the 2018 and 2019 accident years resulted in
a favorable development of insured events of prior
years.
Crusader attributes
much of its adverse loss development experienced in the three most
recent years ending March 31, 2021 to social inflation. Used here,
social inflation is a term that encompasses a relatively new
adverse trend related to society’s application of the law
when it comes to insurance. In this context, social inflation
is generally described by the rising costs of insurance claims due
to societal trends which results in increased litigation, broader
definitions of liability and contractual interpretations, plaintiff
friendly legal decisions, larger compensatory jury awards, and
larger awards for non-economic damages Crusader has
experienced increased costs due to social inflation in all three of
its largest programs, Long-haul Transportation, Residential
Apartment Buildings, and Bars/Taverns, resulting in
higher-than-expected frequency and severity of third-party
liability claims.
The variability of
Crusader’s losses and loss adjustment expenses for the
periods presented is primarily due to the small and diverse
population of Crusader’s policyholders and claims, which may
result in greater fluctuations in claim frequency and/or severity.
In addition, Crusader’s reinsurance retention, which is
relatively high in relationship to its net earned premium, can
result in increased loss ratio volatility when large losses are
incurred in a relatively short period of time. Nevertheless,
management believes that its reinsurance retention is reasonable
given the amount of Crusader’s surplus and its goal to
minimize ceded premium.
The
preparation of the Company’s condensed consolidated financial
statements requires estimation of certain liabilities, most
significantly the liability for unpaid losses and loss adjustment
expenses. Management makes its best estimate of the liability for
these unpaid claims costs as of the end of each fiscal quarter. Due
to the inherent uncertainties in estimating the Crusader’s
unpaid claims costs, actual loss and loss adjustment expense
payments are expected to vary, perhaps significantly, from any
estimate made prior to the settling of all claims. Variability is
inherent in establishing loss and loss adjustment expense reserves,
especially for a small insurer such as Crusader. For any given line
of insurance, accident year, or other group of claims, there is a
continuum of possible loss and loss adjustment expense reserve
estimates, each having its own unique degree of propriety or
reasonableness. Due to the complexity and nature of the insurance
claims process, there are potentially an infinite number of
reasonably likely scenarios. Management draws on its collective
experience to judgmentally determine its best estimate. In addition
to applying a variety of standard actuarial methods to the data, an
extensive series of diagnostic tests are applied to the resultant
loss and loss adjustment expense reserve estimates to determine
management’s best estimate of the unpaid claims liability.
Among the statistics reviewed for each accident year are: loss and
loss adjustment expense development patterns; frequencies;
severities; and ratios of loss to premium, loss adjustment expense
to premium, and loss adjustment expense to loss.
When there is clear
evidence that the actual claims costs emerged are different than
expected for any prior accident year, the claims cost estimates for
that year are revised accordingly. If
the claims costs that emerge are less favorable than initially
anticipated, generally, Crusader increases its loss and loss
adjustment expense reserves immediately. However, if the claims
costs that emerge are more favorable than initially anticipated,
generally, Crusader reduces its loss and loss adjustment expense
reserves over time while it continues to assess the validity of the
observed trends based on the subsequent emerged claim
costs.
The establishment
of loss and loss adjustment expense reserves is a detailed process
as there are many factors that can ultimately affect the final
settlement of a claim. Estimates are based on a variety of industry
data and on Crusader’s current and historical accident year
claims data, including but not limited to reported claim counts,
open claim counts, closed claim counts, closed claim counts with
payments, paid losses, paid loss adjustment expenses, case loss
reserves, case loss adjustment expense reserves, earned premiums
and policy exposures, salvage and subrogation, and unallocated loss
adjustment expenses paid. Many other factors, including changes in
reinsurance, changes in pricing, changes in policy forms and
coverage, changes in underwriting and risk selection, legislative
changes, results of litigation and inflation are also taken into
account.
Policy acquisition costs
Policy acquisition
costs consist of commissions, premium taxes, inspection fees, and
certain other underwriting costs that are directly related to and
vary with the successful production of Crusader insurance policies.
These costs include both Crusader expenses and the allocated
expenses of other Unico subsidiaries. Crusader's reinsurers pay
Crusader a ceding commission, which is primarily a reimbursement of
the acquisition cost related to the ceded premium. No ceding
commission is received on facultative or catastrophe ceded premium.
Policy acquisition costs, net of ceding commission, are deferred
and amortized as the related premiums are earned. The Company
annually reevaluates its acquisition costs to determine that costs
related to successful policy acquisition are capitalized and
deferred.
Policy acquisition
costs and the ratio to net earned premium are as follows:
|
Three Months Ended March
31
|
|
|
|
|
|
|
|
|
Policy acquisition
costs
|
$1,021,965
|
$1,144,425
|
$(122,460)
|
Ratio to net earned
premium (GAAP ratio)
|
15%
|
17%
|
|
Policy acquisition
costs decreased during the three months ended March 31, 2021, as
compared to the three months ended March 31, 2020, due primarily to
increase of ceding commission that Crusader received as a result of
increase in premium ceded to its reinsurers.
Salaries and employee benefits
Salaries and
employee benefits increased $5,591 (0.5%) to $1,128,090 for the
three months ended March 31, 2021, compared to $1,122,499
for the three months ended March 31, 2020.
Salaries and
employee benefits incurred and charged to operating expenses are as
follows:
|
Three Months Ended March
31
|
|
|
|
|
|
|
|
|
Total salaries and
employee benefits incurred
|
$2,173,440
|
$2,006,757
|
$166,683
|
Less:
charged to losses and loss adjustment expenses
|
(567,338)
|
(516,384)
|
(50,954)
|
Less:
capitalized to policy acquisition costs
|
(309,695)
|
(320,048)
|
10,353
|
Less:
capitalized to IT system upgrade
|
(168,317)
|
(47,826)
|
(120,491)
|
Net
amount charged to operating expenses
|
$1,128,090
|
$1,122,499
|
$5,591
|
The increase in the
total salaries and employee benefits incurred for the three months
ended March 31, 2021, compared to the three months ended March 31,
2020, was due primarily to an increase in executive salaries and an
increase in cost of employee medical benefits.
Commissions to agents/brokers
Commissions to
agents/brokers decreased $5,387 (21%) to $20,568 for the three
months ended March 31, 2021, compared to $25,955 for the three
months ended March 31, 2020. The decrease in commissions to
agents/brokers for the three months ended March 31, 2021, compared
to the three months ended March 31, 2020, was due primarily to
lower commissions associated with loss of a large group
account.
Other operating expenses
Other operating
expenses increased $193,064 (20%) to $1,173,479 for the three
months ended March 31, 2021, compared to $980,415 for the three
months ended March 31, 2020. The increase in other operating
expenses for the three months ended March 31, 2021, compared to the
three months ended March 31, 2020, was due primarily to an increase
in fees associated with the reinsurance arrangement with USIC, an
increase in insurance costs, an increase in communication costs,
and an increase in rent expense as the Company started paying rent
during the three months ended March 31, 2021.
Income tax benefit
Income tax expense
was $274,636 (11% of pre-tax income) for the three months ended
March 31, 2021 and income tax benefit was $101,672 (9% of pre-tax
loss) for the three months ended March 31, 2020.
As of March 31, 2021, the Company had deferred tax assets of
$7,510,566 generated from $35,764,600 of federal net operating loss
carryforwards that will begin to expire in 2035 and deferred tax
assets of $2,551,432 generated from state net operating loss
carryforwards which expire between 2028 and 2040. In connection
with preparation of its financial statements, the Company
periodically performs an analysis of future income projections to
determine the adequacy of the valuation allowance. In light of the
net losses that were generated in recent years, for the three
months ended March 31, 2021,
the Company has established a valuation allowance for the aggregate
amount of the federal and state net operating losses and other
deferred tax assets in the amount of $10,346,084 that, in
management’s judgment, are not more likely than not to be
realized. For the year ended December 31, 2020, the Company has established a valuation allowance
for the aggregate amount of the federal and state net operating
losses and other deferred tax assets in the amount of
$10,557,080.
OFF-BALANCE SHEET ARRANGEMENTS
During the periods
presented, there were no off-balance sheet transactions,
unconditional purchase obligations or similar instruments and the
Company was not a guarantor of any other entities’ debt or
other financial obligations.